It's becoming a recurring theme in today's marketplace for business owners to search for an investor's dollar as they look to fund growth or strategic initiatives. There is support to suggest these funds are needed to replace working capital that has been eroded over the past five years of economic downturn, but is also fair to point out that our SME companies have continued the trend of being undercapitalised and therefore need an 'equity leg-up' if they want to lift their game.

Two options for cash

1. Debt - borrowing from a bank (or a known friendly party). This is considered to be the cheap option. The lender will look for how much security is available over their funds in order to reduce their risk and will also look for an interest rate and term that is over and above what they could get in elsewhere the market (for example, bank bonds or term deposits) as a reward for the extra risk they take on.

2. Equity - through the issue of new shares, not the sale of shares. This is considered to be the expensive option as you are giving away access to future dividend streams/profits and also capital growth, but is possibly more attractive to the lender/investor.

If we focus on the latter option, it's important to distinguish between the "sale of shares" and "issue of shares". In a sale situation, this would signify an exit strategy and conversion of ownership as monies would change hands at shareholder level. In an issue of shares, the cash goes into the business - the intended outcome. Many owners promoting this investment strategy get it wrong.

In seeking a new shareholder and their investment capital, the cash must be of a material amount to make a significant difference to the business given the future profits being given away through your dilution of shares, but must also be of a meaningful shareholding otherwise there is no carrot to attract that incoming shareholder. This meaningful shareholder percentage was an overriding theme in the popular TV series Dragon's Den and perhaps the deal breaker, why many ideas weren't invested into by the dragons.

Advertising for the investor

Advertising for that investor is the tricky bit and you need a document to do so. This document is referred to as an Information Memorandum and should contain enough information about your business and the purpose of the capital raising plan to entice a prospective investor but limit the detail so as not to give away trade secrets and confidential information so that competitors and the like don't get to look up your skirt. It's important to dress it up to make the offer attractive, but also as important to make sure there are no misrepresentations in order to avoid any unwinding at a future date.

The information Memorandum

The Information Memorandum should include an outline of your business's activities, where it's come from and what is its competitive advantage/unique selling point (USP). It should outline some basic financial information and the likely return on investment for an incoming shareholder as this is a primary motivator for them. It needs to look and feel professional otherwise the business will come across as an unkempt dog. What you put in it may vary depending on whether it's being distributed to the open market or a targeted audience, for instance a supplier of customer - often referred to as vertical integration.

Where an investor wants to take the opportunity further, they will sign a confidentiality agreement and undergo a due diligence exercise to obtain a more detailed knowledge of the business and its potential.

Shareholders Agreement

The final chapter in securing a new shareholder is to realise that a new partnership is being formed and guidelines on how this partnership works should be set up upfront by way of a Shareholders Agreement. This agreement sets out the rules to the game and covers items such as; voting rights, dividend policy, setting of shareholder salaries, valuing shares on exit, governance etc. You also need to be comfortable that you can get along as people as well - an often overlooked ingredient in the mix.

Sometimes it takes a life change such as redundancy or the loss of a loved one which triggers the move to start up your own business. Tell us your stories. Email me, Gill South, at the link below.